Netflix (NFLX 1.74%) is planning to launch its ad-supported tier next year, as it looks to reinvigorate subscriber growth. While the new tier could bring in millions of new subscribers and billions in ad revenue, there are some additional costs for Netflix as well.
Specifically, it still needs to secure the rights to show ads during much of its licensed content. The streaming leader could find itself at a disadvantage compared to many of its competitors that have launched with ad-supported tiers in mind.
Securing the content rights
Netflix has dozens of original series and films, but it still has a big library of licensed content. The licenses it has negotiated are for a paid streaming service only; Netflix doesn't have the rights to show ads during its licensed shows.
As such, the company has to go back to the media companies and negotiate additional licensing terms for the ad-supported tier. Those rights will cost 10% to 15% more than the current ad-free license deals, according to a report from Bloomberg.
And Netflix won't be able to secure ad-supported rights for all of its shows and films. "We will clear some additional content, but certainly not all of it," CEO Ted Sarandos said during Netflix's second-quarter earnings call.
In some instances, it might be a matter of price. Chief financial officer Spence Neumann said, "We'll be disciplined in what we do," indicating that it's not willing to overspend on content rights for the ad-supported tier. In other instances, the media partners simply won't allow ads to run during their shows.
Netflix also needs to be careful about showing ads during its original films in order to appease filmmakers. The media company has made great progress in attracting top talent to make films that mostly skip theaters and go directly to streaming. Inserting ads into those films will cheapen the experience, which would likely turn off a lot of talent.
The competition is ready to roll (ads)
Netflix's biggest competitors launched their streaming services with plans for ad-supported tiers from the very early going. That's allowed them to move faster than Netflix in their launch plans.
For example, Warner Bros. Discovery's (WBD -1.07%) HBO Max launched its ad-supported tier about a year after the initial ad-free tier. Disney is launching an ad-supported tier of Disney+ this fall, as it looks to sustain subscriber growth while raising prices. Others have launched their ad-supported service alongside the ad-free version.
Netflix is very late to the party and may be at a disadvantage. There's a growing acceptance of ad-supported streaming as consumers find their budgets increasingly constrained while looking to add more streaming options to their living room lineup. Without its own ad-supported tier, Netflix is seeing many subscribers cancel to save money. It will have to work hard to win those subscribers back with its ad-supported tier when it is launched next year, which could mean an increased investment in marketing aimed at previous subscribers.
Combined with the need to negotiate additional rights, Netflix will see costs rise as it establishes its ad-supported tier. You have to spend money to make money, but the incremental earnings generated by an influx of ad-supported viewers won't be as high as it would be if Netflix brought in premium ad-free subscribers.
And while the investment ought to pay off well in the long run, it'll be worth paying attention to the actual bottom-line impact on earnings, instead of just subscriber numbers.
